European Union: Implementing The Revised Parent Subsidiary Directive Across The EU
A striking example of the EU’s efforts to accelerate the implementation of anti-base erosion and profit shifting (BEPS) measures is the amended Parent Subsidiary Directive (PSD). Originally designed to prevent economic double taxation of profits distributed within an EU corporate, the PSD is now also being deployed to counter undesired tax planning within the EU by requiring member states to implement in their domestic laws by 31 December 2015 both a general anti-abuse provision (AAP) and a specific anti-hybrid rule. The amendments raise important implementation questions which could result in domestic tax laws varying considerably. Enough reason for making a comparison of the legislative changes and proposals implementing the amendments to the PSD in major EU member states, and Switzerland.
What is the PSD about? The aim of the PSD is to remove economic double taxation of profits realised by an EU subs with an EU parent by requiring (i) the member state of the sub to fully exempt distributions by the sub from withholding tax and (ii) the member state of the parent to eliminate double taxation of the underlying profits distributed by the sub at the level of the EU parent by means of an exemption or credit. The PSD applies in respect of parents holding at least 10% of the share capital of or voting rights in the sub, although many member states apply a lower threshold.
What does the AAP do? Under the AAP, member states may not grant PSD benefits to arrangements that (i) are not genuine (the objective test) and (ii) have been put in place for the purpose of obtaining a tax advantage that defeats the object or purpose of the PSD (the subjective test).
And the anti-hybrid rule? The anti-hybrid rule aims to tackle deduction/non-inclusion mismatches resulting from hybrid instruments issued by an EU sub to its EU parent. The rule requires the member state of the parent to tax payments received on hybrid instruments to the extent those payments are deductible by an EU sub.
Will these changes create uniform anti-abuse legislation within the EU? The simple answer is no. First, the scope of the PSD is limited to certain payments within EU groups. There are of course plenty of situations that fall outside this scope including, in the view of a number of member states, intra-group structures using transfer pricing mismatches. Second, a quick tour through member states shows that the implementation of the amended PSD is likely to vary considerably and will require further clarification in case law. Many member states, including France, Germany and Italy, hold the view that the AAP requires no changes to their domestic laws because their existing anti-avoidance rules suffice. The scope and application of these existing domestic rules will inherently differ. These differences are expressly allowed by the PSD as long as these existing rules meet the minimum anti-abuse standard set by the AAP and otherwise comply with EU law (e.g., the fundamental EU treaty freedoms). Another example is the Dutch government’s view that the amended PSD does not require them to implement an AAP in the Dutch participation exemption is based on a rather unusual statement by the European Commission in an Annex to the amended PSD proposal. Further, while most member states apply the anti-abuse rules also in respect of non-EU subs and shareholders, Luxembourg has opted to only apply the anti-abuse rule to EU subs and EU shareholders.
The Goldilocks zone. Where the fundamental EU treaty freedoms as applied by the European Court of Justice (ECJ) have put a limit on the application of domestic antiabuse rules to cross-border activities within the EU, the amended PSD now also sets a minimum standard. The European Commission and the ECJ are likely to play a crucial role in defining the Goldilocks zone in between. On the one hand the European Commission could take enforcement action against “conduit friendly” member states on the basis that they have not properly implemented the PSD in their domestic laws or have been too lenient in enforcing these laws. On the other hand the ECJ will likely be faced with questions on whether domestic anti-abuse rules that aim to implement the PSD are not overreaching in the sense that they violate fundamental EU treaty freedoms.
What about Switzerland? Obviously, the PSD does not directly apply to Switzerland. However, the EU-Swiss Savings Agreement provides for a withholding tax exemption for dividends paid by subsidiaries resident within the EU to Swiss parents and vice versa. This exemption is based on the first version of the PSD from 1990 which uses a 25% threshold rather than the current PSD threshold of 10%. The Savings Agreement does not provide for elimination of economic double taxation by the country of the parent. The amendments to the PSD will not automatically amend the provisions set out in the Savings Agreement because this requires an official amendment of the Savings Agreement. The EU and Switzerland agreed on amendments to the Savings Agreement on 27 May 2015, implementing the OECD Common Reporting Standards, but no amendments equivalent to the PSD amendments as described above were made.
